I'm Lead Analyst at European Energy Review and consultant to a number of governments & institutional investors, most recently as Senior Research Fellow, Netherlands Institute for International Relations (Clingendael), I was previously Senior Research Fellow at ETH Zurich working on energy and political risk. I started work in the City of London, advising on energy markets and political risk, as Senior Energy Analyst at Datamonitor for leading global utilities, and headed up the Global Issues Desk at Control Risks Group, specializing in political risk, geopolitics and security analysis for multinational companies, governments and institutional investors. I was also seconded to work in Washington, D.C., to enhance CRG's political risk offerings in North America, having previously worked as an energy consultant at Weber Shandwick Worldwide. My initial stomping ground was British Parliament, serving as Policy Director to the largest All Party Parliamentary Group. Contact m.n.hulbert.03@cantab.net

Riyadh's Russia Problem: Oil

If we wanted any further evidence why the Arctic really matters for Russia, we just got it. After a six year stint as the world’s largest oil producer, Moscow’s crown has finally slipped back to Saudi Arabia. The Kingdom is ‘officially’ pumping just above Russia output at 10mb/d. No doubt tight markets have played a critical part in Riyadh opening its valves, but the fact Russia can no longer perform its historic role of free riding on OPEC production underlines the challenge Russia’s 16% depletion rates present. The Kremlin will struggle to maintain 10mb/d output, let alone incremental increases over the next decade when you consider onshore fields are dwindling, and offshore plays won’t realistically come online until 2020. President Putin will increasingly look to others to fix the market until things are resolved. That’s not good news, either at the top or bottom; it will always be at someone else’s expense.

The Saudis are painfully aware of this of course. They’ve taken up the slack from Iranian sanctions, not to mention supply slippages across OPEC and non-OPEC ranks in Sudan, Syria, Yemen, China and Central Asia. Riyadh’s market credibility was already on the line when Brent prices hit historic highs in March 2012 (Euro / Stirling). Despite Saudi efforts, their Muscovite counterparts were simply in no fit state to help moderate prices across non-OPEC production. Not now; not if bulls start stampeding in London and New York, and certainly not if explosive scenarios around the Strait of Hormuz play out over Iran.

But it’s not just at the ‘top’ where Russia is a problem for Riyadh. Long forgotten now, it was only in September 2008 when Deputy Prime Minister, Igor Sechin was dispatched to OPEC meetings to try and strike bilateral agreements with cartel members when prices plummeted. Alarm bells were ringing in Riyadh; even if Russia wanted to pump more oil at OPEC’s expense it would struggle to do so. Moscow’s attempt to sign a Memorandum of Understanding with the cartel was a fundamental sign of weakness, not one of strength from the Kremlin. Roughly translated, Russia is no use to Saudi Arabia at the top of the market, and it’s a damn right nuisance to orchestrate any serious supply restraint when prices tumble.

Moscow would never formally fit into OPEC. President Putin isn’t going to play second fiddle to the Saudis, any more than Riyadh wants to enhance a strong Russo-Iranian axis within the cartel, or indeed share its swing producer status to further weaken its grip on global oil markets. What Moscow will do if things get tough, is maintain its observer status with OPEC, all while pushing bilateral deals outside OPEC forums with the likes of Nigeria, Iran, Venezuela, Ecuador and Algeria. Price hawks all have the same goal; maintain volume wherever possible and maximise price. GCC states (and specifically Saudi Arabia) would be expected to do the hard work to set a price floor.

Keeping Russia out the cartel no doubt has geopolitical benefits for Riyadh to maintain its status in the Middle East vis-à-vis America, but Russian bilateral co-operation with individual OPEC members will do little to foster long term alignment and common purpose across producer states writ large. Very few new OPEC players such as Ecuador or Angola have shown serious restraint when things are difficult; Venezuela, Iraq, Iran, Nigeria and Algeria would all cheat on quotas given domestic political and fiscal pressures. Even if Riyadh takes most the strain on price, more reliable Gulf States such as the UAE, Kuwait and Qatar would find things difficult this time around. If anything the flat price of crude could be influenced more by political implosion across producer states from correcting prices, rather than any meaningful cooperation between OPEC (Saudi) and non-OPEC (Russian) heavyweights.

Obviously, the relatively steady market we see today will continue to mask deep divisions and divides. Despite Russian slips, prices are back ‘under control’ at the top, and despite softening in China, we’re nowhere near the depths of 2008 when prices crashed to $33/b. But investors should beware; inherent Riyadh-Russia divisions exist, and will only get deeper over the next decade as instability creeps in. Ironically when we get into the 2020s, the boot might be on the other foot. Although Riyadh has just reclaimed its oil crown, Russian Arctic production will come good at some point, and Saudi exports could slip to 7mb/d due to domestic consumption without serious policy intervention. In ballpark terms, that would make Russia the swing producer – both in the oil and gas worlds. If that doesn’t give consumers, and particularly America, serious food for thought, then little else will. Amid its new found energy riches, Washington needs to get hold of the energy ‘rope’ first…

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